Reserve may face a surge in wages

The latest news includes reports of further massive rises in the prices of coal and iron ore and governmental discouragement of China Inc's attempts to buy up Australian resource companies.

The graph plots the Reserve Bank's commodity inflation measure against the exchange rate between the $A and the $US.

Clearly, the powerful rise in commodity prices has influenced the Australian currency, and movement towards parity and beyond will reduce some exports, encourage some imports and weaken Australian manufacturing.

The domestic economic indicators will be examined closely. Retail sales have slowed, perhaps far closer to a sustainable 3 per cent real annual rate than the near 6 per cent rate of the last half of 2007. Credit growth has slowed, although on the broadest measure only to an annual rate of 14 per cent or so.

Housing approvals fell sharply in March and house prices are said to be falling in most cities. Household and business confidence has fallen and this helps to explain slower retail and housing demand. And the ripples from Australia's margin-lending scandal (an antipodean sub-prime event) are putting a crimp in the spending of former high-flying entrepreneurs.

Next week's budget is expected to contain some real cuts to overall government spending (to its growth, if not absolutely) as well as continued strong revenue growth. A budget surplus of 2 per cent or more of GDP is possible and would gain the commentariat's approval. However, the onset of promised tax cuts will provide an offsetting influence and the Reserve Bank will not assume the net effect of the budget will be to slow the economy further.

Business investment is still strong, and infrastructure spending by all levels of government will bolster this effect. The demand for skilled workers is holding up, although there are anecdotes of slowing demand and greater supply in the semi-skilled sector.

Henry's main economic concern relates to the labour market. With an over-heated economy and powerful demand for labour, a wages surge would in times past be under way by now. The wage explosions in the 1970s, the early 1980s and the early 1990s all did great damage.

The Hawke government had the Accord, which involved voluntary restraint by workers and, when the chips were down at "Banana Republic" time, a cut in real wages.

The Howard government had WorkChoices. Unfair? Yes, in some cases, and this unfairness cost the Howard government dearly. Ineffective? By no means, if the aim was to maximise jobs rather than pay and conditions.

There is no doubt in Henry's mind that the tough aspects of WorkChoices helped to restrain wage demands as the resource boom gathered pace. Substantial help was also given by the ready importation of skilled labour with the help of 457 visas.